Satyam scam: PW’s saga of ignored red flags

Like Titanic’s Capital Smith who ignored seven warnings of an iceberg, Price Waterhouse, the Indian affiliate of PricewaterhouseCoopers (PwC), too can be said to have ignored warnings, according to SEBI’s Wednesday order, of a sinking ship that India’s IT major Satyam Computer Services (SCSL) was turning into due to its fraudulently inflated financial numbers.

Nine years after the collapse of SCSL, mainly due to fraudulent book entries, its auditor Price Waterhouse and associates in India are being held guilty by SEBI of gross negligence of duty to follow minimum standards of diligence and care expected from a statutory auditor.

In fact, SEBI has gone a step further and even talked about acquiescence and complicity of Price Waterhouse in the case and stated that several red flags, which were all too obvious for any reasonably professional auditor to miss, failed to engender the necessary professional scepticism in the Price Waterhouse team associated with the SCSL audit.

By accepting the information provided by the company at face value and performing a perfunctory job (despite warnings), the auditor has failed to live up to the expectations of shareholders, SEBI’s Whole-Time Member G Mahalingam observed in his order. SEBI observed that guidance notes of Accounting Standards are too stark to ascribe the colossal lapses on the part of auditors to mere negligence. SEBI is also of the view that the auditors have merely accorded their concurrence to the documents produced by the company and thereby totally ignored the discrepancies pointed out by internal audit. In 2009, SCSL’s chief B Ramalinga Raju confessed in a written note that he inflated financial numbers in terms of bank deposits, reserves and fake customer receipts. It is this that Price Waterhouse failed to cross check, which is why it was barred by SEBI from issuing any audit certificate for two years.

A key charge against Price Waterhouse is that it did not independently verify the accounts given by SCSL with banks and chose the easy way by accepting them on face value. According to Raju’s own submission, there were 7,561 fake invoices of which SEBI observed that 6,603 gained entry into the official files and earnings were recorded by SCSL of fake customers.

Indicting Price Waterhouse in the fraud, SEBI said though the carefully laid out scheme of fraud and falsification of accounts in SCSL does get attributed to the top management of SCSL, a dispassionate analysis of the whole episode spanning a period of at least eight years would reveal that the perpetration of the fraud could not have been made possible without the knowledge and involvement of the statutory auditors.

“I note thats even a whistleblower’s letter received on December 23, 2008 (which was a few weeks before the confessions by Ramalinga Raju), extending a note of warning to the auditors about the inflation of bank balances, failed to elicit a response, which a prudent auditor would normally provide in case of any sudden exposure of fraud. This becomes more apparent in view of several important happenings around that time, viz, deferment of audit for quarter ended December 31, 2008 by the management of SCSL citing ‘preparedness’, the calling off of the acquisition of Maytas Infra by SCSL due to investor backlash, calling off of the Audit Committee Meeting scheduled on December 29, 2008, resignation of four independent directors during the last week of December 2008 and the decision of the World Bank to bar SCSL from doing business with it for eight years. All these factors turn the needle of suspicion away from negligence to one of acquiescence and complicity on the part of the auditors,” the SEBI order states.

The auditor has maintained that they acted according to audit procedures and cannot be held liable for tracking down fraud schemes when no suspicion was aroused. Price Waterhouse even challenged SEBI’s jurisdiction over it in court, which said that since professionals are associated with capital markets by way of giving certification and audited statements, SEBI had no jurisdiction over them. The court even said that SEBI should evaluate the evidence available to indicate the role of the auditor in the alleged fraud.